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A buyer was interested in a building products manufacturer that did $70 million a year in sales. Although the business was profitable, it seemed that their margins were lower than they should have been for this industry. The buyer asked the seller how they priced their products. As the seller was explaining his pricing strategies, he happened to mention that a price increase of 1.5 percent would not really impact sales. He failed to see that the price increase of 1.5 percent on $70 million in sales would bring $1 million in profit. A smart buyer would realize how to get an additional $1 million in bottom-line profit simply by increasing prices by 1.5 percent.
A recent book titled The Art of Pricing by Rafi Mohammed went immediately to the business best-seller list, and no wonder. The author stated: “One of the biggest fallacies in business is that a product’s price should be based on its costs.”
Here are some of the author’s suggestions:
• Restaurants: Keep the entrees priced attractively, but expect to make up the profit shortfall on drinks, desserts and extras. McDonald’s profit on hamburgers is marginal, but it has substantial profits on French fries and soft drinks.
• Television Advertising: Sell 75-85% guaranteed slots six months in advance, then sell the balance of advertising to the spot-market with little advance notice at premiums of 50%.
• Financial Printing: Price the printing of IPO prospectuses at near break-even, and then charge exorbitant fees for last minute changes.
• Investment Banks: Quote a relatively modest accomplishment fee as a percentage of total consideration, but insert a rather substantial minimum fee.
Another notable quote from Rafi Mohammed is: “Companies should develop a culture of producing profits. Through better pricing, companies can increase profits and generate growth. In many ways, smart pricing is like hidden profits.”
This takes us back to our first premise: Small pricing increases can greatly increase profits.